Suppose the current date is January 1, 2023, and that your firm requires debt financing. Further...

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Suppose the current date is January 1, 2023, and that your firm requires debt financing. Further suppose your firm will be able to pay off this debt after 9 years. Consider the following two strategies: Strategy 1-Issue a zero-coupon bond with a 9-year maturity and the following characteristics: . Matures in 9 years. Face value $1000. YTM -8% Strategy 2- Rollover a series of 3-year zero-coupon bonds. L.e., issue a 3-year zero-coupon bond now, issue another 3-year zero when the first matures, issue a third 3-year zero when the second matures. Suppose the first 3-year bond can be issued with the following characteristics: . Matures in 3 years. • Face value-$1000. • YTM -8%. Part A (2 marks): Please compute the price of the 9-year bond in strategy 1. Part B (2 marks): Please compute the price of the 3-year bond in strategy 2. Part C (3 marks): Suppose that, based on the yield curve, you expect interest rates to decline over the next 3 years. Which strategy would you choose and why? Don't forget you are thinking from the perspective of the firm or financial manager who is raising debt capital. The last two questions are from the perspective of an investor with a 6-year holding period. Part D (3 marks): Suppose that, based on the yield curve, you expect interest rates to decline over the next 6 years. Which strategy would you choose and why? Don't forget you are now thinking from the perspective of an investor. Consider an investor who bought the 9-year bond (strategy 1) at issuance (when the bond was initially sold, i.e., when there were 9 years to maturity). Suppose that after 6 years the YTM has declined to 6%. Part E (4 marks): What annual rate of return would the investor have earned if they sold the bond at YTM of 6% after holding for 6 years? Hint: i) calculate the selling price (TTM-3, YTM=6%), 11) holding period return, i) convert the 6-year holding period return to an annual return. Suppose the current date is January 1, 2023, and that your firm requires debt financing. Further suppose your firm will be able to pay off this debt after 9 years. Consider the following two strategies: Strategy 1-Issue a zero-coupon bond with a 9-year maturity and the following characteristics: . Matures in 9 years. Face value $1000. YTM -8% Strategy 2- Rollover a series of 3-year zero-coupon bonds. L.e., issue a 3-year zero-coupon bond now, issue another 3-year zero when the first matures, issue a third 3-year zero when the second matures. Suppose the first 3-year bond can be issued with the following characteristics: . Matures in 3 years. • Face value-$1000. • YTM -8%. Part A (2 marks): Please compute the price of the 9-year bond in strategy 1. Part B (2 marks): Please compute the price of the 3-year bond in strategy 2. Part C (3 marks): Suppose that, based on the yield curve, you expect interest rates to decline over the next 3 years. Which strategy would you choose and why? Don't forget you are thinking from the perspective of the firm or financial manager who is raising debt capital. The last two questions are from the perspective of an investor with a 6-year holding period. Part D (3 marks): Suppose that, based on the yield curve, you expect interest rates to decline over the next 6 years. Which strategy would you choose and why? Don't forget you are now thinking from the perspective of an investor. Consider an investor who bought the 9-year bond (strategy 1) at issuance (when the bond was initially sold, i.e., when there were 9 years to maturity). Suppose that after 6 years the YTM has declined to 6%. Part E (4 marks): What annual rate of return would the investor have earned if they sold the bond at YTM of 6% after holding for 6 years? Hint: i) calculate the selling price (TTM-3, YTM=6%), 11) holding period return, i) convert the 6-year holding period return to an annual return.

Answer rating: 100% (QA)

Part A To compute the price of the 9year bond in strategy 1 we can use the formula for the present value of a zerocoupon bond Price Face Value 1 YTMn ... View the full answer